Foreign Exchange Controls

Foreign exchange controls (also referred to as ‘exchange controls’) generally refer to governmental restrictions on foreign currency trading and cross-border payments. These are common in developing countries, and used primarily to limit capital flight (because money leaving the country may impact the economy) and maintain the stability of foreign exchange rates (because foreign exchange volatility impacts economic stability).


Types of Exchange Controls 

There are three main types of exchange controls. 

  1. Convertibility: Some countries have currencies that are not freely convertible outside their borders, which impedes offshore currency trading and conversion. While some countries with (local) currencies that are not freely convertible impose minimal controls on cross-border flows in other (foreign) currencies, many apply tight controls over cross-border flows of any kind. 

  1. Foreign exchange regimes: Some countries manage their currency’s value very strictly; this can be in the form of currency pegs, where the foreign exchange value of their currency is directly fixed to another currency (or basket of currencies), or in the form of a managed band within which the currency can fluctuate. 

  1. Capital mobility: Regulation over capital mobility restricts the free-flow of currencies across markets. The mechanisms used for capital flows include: 

a. Current account:  An open current account means that trade settlement across borders is relatively easy (though it may still require compliance with eligibility criteria, monitored by banks/government bodies); a closed current account means that trade flows require approval by the relevant authorities. 

b. Capital account: Many countries have strict controls over cross-border capital flows, requiring case-by-case governmental approval for all inward and outward investment, or other specific purposes. 

Drivers for Exchange Controls 

Exchange controls generally address these objectives: 

  1. To manage the value of the currency and to avoid foreign exchange volatility (limited convertibility and FX regimes), and 

  1. To control cross-border flows to minimise capital flight (capital mobility controls); the latter often apply to both local and foreign currencies – for example, countries with non-freely convertible currencies will often limit cross-border flows of other currencies to avoid capital flight. 

Government attempts to manage the value of their currency can be disruptive for trade and even domestic operations. To prevent situations that may lead to the creation of parallel hard currency economies within the country (as a way for residents to avoid the risks and iniquities of controlled currencies), some governments mandate that domestic transactions be priced and settled in the local currency. 

Countries with exchange controls often limit the right of residents to hold offshore accounts (because such accounts may allow free movement of the currency and because these countries generally want all export sales to be collected in-country). 

Historically, most countries had exchange controls and it was considered normal for governments to restrict currency conversion and cross-border payments. For example, Britain had exchange controls until 1979 when the Thatcher government abolished them, opening British Pounds to market forces and freeing the British people and companies to invest abroad. 

Implications for Corporate Treasury 

Corporate treasury typically prefers countries with convertible currencies and the freedom of cross-border flows. This allows treasury to freely optimise their cash globally. 

The efficiency of cash management is limited in countries with exchange controls – i.e. balances cannot be concentrated in one global pool if exchange controls limit cross-border flows and trap cash in the countries with exchange controls. Exchange controls also limit treasury’s ability to achieve straight-through processing on cross-border payments (because exchange controls normally involve manual, paper-based checks) and generally limit treasury’s ability to net off flows and pay-on-behalf-of subsidiaries. 

Treasury’s goals for cash management cover both balances and flows. For balances, treasury will try to pool all its cash globally to minimise external (bank) borrowing and deposits. By pooling cash, treasury saves the spread between bank deposit rates and bank loan rates, and also reduces the size of the corporate balance sheet. Cash in countries with exchange controls and local funding where intercompany loans are not permitted limit the efficiency of balance management. 

For flows, treasury will first attempt to eliminate as many flows through the banking system as possible by eliminating and netting off intercompany flows and by aggregating third party flows, and subsequently try to maximise straight-through-processing to reduce costs and minimise operational risks. Exchange controls, which often imply manual, paper-based processing by bank and/or government, limit operational efficiency. 

Impact on Balance Management Tools 

All cross-border balance management tools can be restricted by exchange controls. 

  1. Intercompany loans: Intercompany loans would normally be restricted by capital account constraints, though in many cases intercompany loans are permitted subject to approval and/or registration. They may also be constrained by non-freely convertible currencies and currency regimes in so far as the subsidiary needs local currency (foreign currency intercompany loans may be possible in countries with non-freely convertible currencies, but the subsidiary will be exposed to foreign exchange volatility and potential exchange losses). 

  2. ZBA (Zero Balance Account or Sweeping) : Since ZBA is basically a bank-automated intercompany loan, the same issues as for intercompany loans will apply. However, ZBA may be further restricted when approval and/or registration is designed to operate on a per transaction basis (it may be impractical to get daily approval and/or registration for varying daily sweeps). Some countries allow ZBA approval and/or registration up to agreed maximum values, and most bank systems cater for sweep and balance value limits. 

  3. In-house Bank (IHB): since IHB results in intercompany loans, the same issues as for intercompany loans will apply.  IHB may further be constrained by limits on on-behalf-of (OBO) and non-resident account rules. 

  4. Notional pooling: Since notional pooling requires that funds be maintained in a single pooling bank, exchange controls may restrict the ability to consolidate available currencies in a single location. Notional pooling may also be restricted by non-resident and offshore account rules; non-convertible currencies cannot be notionally pooled in an offshore centre because they cannot exist outside of the country (it may be possible to notionally pool foreign currency from such countries). 

  5. Interest optimisation: Since interest optimisation does not involve cross-border transfer of funds, or physical conversion from one currency to another, exchange controls have a limited impact. Restrictions on non-resident and offshore accounts rules continue to apply. 

Impact on Flow Management Tools 

Flow management tools are generally less constrained by exchange controls. This is partly because many flow management tools are operational in nature. 

  1. Reconciliation: Being an operational account management process, reconciliation is not affected by exchange controls. 
  2. Virtual accounts: Virtual accounts are not directly affected by exchange controls, in so far their availability is restricted to only freely convertible currencies in offshore markets. Domestically, restrictions on non-resident and foreign currency account availability rules continue to apply. 
  3. Payment factory: A payment factory centralises payment processing and as such is not affected by exchange controls. Where payment factory extends to OBO, it will be affected by the same constraints as IHB below. 
  4. Netting: Multilateral payment netting can be affected by various exchange controls and related restrictions. For example, many countries with exchange control require that export collections and import payments be processed separately so that transactions can be audited and/or approved. This effectively makes netting impossible (but it is important that most of the netting process benefits can still be gained in such countries by settling gross-in / gross-out). Furthermore, the netting process requires precise timing of flows (normally on one day per month) and this is harder to achieve when cross-border flows are subject to audit and/or approval. Nonetheless, with good internal discipline and a supportive banking partner, it is usually possible for subsidiaries in countries with exchange controls to participate in the netting cycle, and this brings process benefits including cost and risk reduction to both the subsidiary affected by exchange controls and all its sister subsidiaries globally. 
  5. IHB: As noted above, IHB from the balance management perspective results in intercompany loans which may be restricted by exchange controls. From a flow management perspective, IHB is both a process improvement similar to payment factory and the implementation of OBO. OBO may be restricted in countries with exchange control by rules intended to facilitate audit and/or approval of cross-border flows (i.e. the names on the invoice must correspond to the names on the payment). In these countries, subsidiaries can enjoy the process benefits of IHB but may not be able to participate in a full OBO. 

Working with Exchange Controls 

When working with countries with exchange controls, treasury must be careful to fully understand the regulations and to mitigate the risks the controls create. 

DBS Treasury Prism helps treasury to understand and model the impact of exchange controls and other regulations on their cash management structures through real-time, contextual insights. 

It is critical to fully understand relevant exchange control regulations because they have the force of law, and performing illegal operations can have a negative impact for the company well beyond the scope of treasury. 

It is also important to perform all registration and approval steps before initiating cross-border transactions in countries with exchange control to avoid restriction in the mobility of cash and other issues. 

Potential Tax Issues Related to Exchange Controls 

Any cross-border flow will have tax consequences. Since exchange controls restrict cross-border flows, they can also have tax consequences, though these tend to be second order consequences. These can include: 

  • Issues with FX gains and losses: As exchange control regimes often limit FX hedging onshore (through regulation and / or lack of liquidity), businesses often hedge regulated currencies in offshore markets; this can result in a tax impact when FX losses on underlying exposures hit onshore and FX gains on hedges hit offshore (or the reverse), causing asymmetric tax results which cannot be offset. 

  • Recharacterisation of loans for tax purposes: Depending on a country’s regulatory requirement, failure to register a cross-border intercompany loan will normally make it hard or impossible to repay – in best cases, unregistered intercompany loans may be deemed as equity capital which means any interest (which will be impossible to pay cross-border) will not be tax deductible; in worst cases, unregistered intercompany loans may be treated as income and are therefore subject to corporate income tax, and this can represent a substantial loss of capital. 


Exchange controls present a number of issues that can impede a company’s cash management. It is important that treasurers fully understand exchange controls and related regulations and the potential impact exchange controls have on cross-border flows and balances. This will help treasurers avoid losses and operate as efficiently as possible, within regulations. 

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